February 25, 2016
After several years of record-low interest rates and an unprecedented wave of issuance, today's bond market is unlike anything that has come before it. We've ballooned to over $8 trillion in U.S. high grade and high yield corporate bond debt outstanding while pushing overall bond market turnover to an all-time low during the same period.
As we've noted before in High Grade Turnover: A Closer Look at That All-Time Low, such a broad brush fails to uncover the micro-structure dynamics of this new market environment. Understanding these micro-structure dynamics takes on particular importance in a period of increased volatility, continued high levels of issuance, and regulatory scrutiny of institutional portfolios' liquidity.
As we've noted, in HG, the "liquid" segment of the market – that's roughly the 1,000 most active CUSIPs – has maintained its historical turnover. The less liquid segment – that's all other CUSIPs – has not, weighed down by the crush of securities that need to be priced each month. This nuance is lost when looking at market-wide measures.
Of course, turnover is just one measure and the above-mentioned approach is just one filter.
Chart 1 shows the daily average U.S. high grade trading activity for 2015. We've counted 5,217 unique CUSIPs reported to TRACE (and aggregated via BondTicker) on an average day, including both Client-Dealer (C-D) trades and Dealer-Dealer (D-D) trades of any size. That number falls a modest 2% to 5,084 when looking at just C-D trades.
However, that number falls an additional 57% to 2,194 when looking at CUSIPs with at least one C-D on each side of the market; e.g. one client buy and one client sell. Stated differently, 57% of CUSIPs appearing on TRACE have just one-sided C-D trading on a typical day.
Chart 1 also shows comparable statistics for CUSIPs with at least five trades and at least ten trades.
We've counted a daily average of 1,030 CUSIPs with at least five C-D trades on a given day, or 20% of those with at least one C-D trade. And 154 of these CUSIPs have at least five C-D trades on both sides of the market, which is just 3% of those with at least one C-D trade.
The data for ten trades is even thinner: an average of 341 CUSIPs have at least ten C-D trades on a given day, and just 22 CUSIPs have at least ten C-D trades on both sides of the market on a given day.
Chart 2 shows the same analysis for the U.S. high yield market. There were 1,649 unique CUSIPs traded on average each day, 97% of which appeared in the C-D market. But when we look at two-way activity, the number drops 45% to 889 unique CUSIPs traded. The decline is even greater for CUSIPs that traded at least 10 times a day. As with the U.S. investment grade market, the results are quite thin: 143 CUSIPs have at least ten C-D trades on a given day, and just 11 CUSIPs have at least ten C-D trades on both sides of the market on a given day.
Mapping trade frequency underscores the discontinuity of liquidity in what is a radically different bond market than a decade ago. More than ever, the market is a collection of micro market structures with highly differentiated liquidity characteristics. Not surprisingly, today's market participants find increasing value in deploying a spectrum of trading protocols to engage with the broadest range of counterparties possible.